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The fiscal and monetary response by the U.S. government and the Federal Reserve to the economic crisis has been to spend, to borrow, and to inflate the money supply. The result has been skyrocketing debt, continued economic stagnation, and monetary conditions conducive to hyperinflation.

Congress passed the Troubled Asset Relief Program (TARP) in the fall of 2008, supposedly to avert an economic collapse. The program authorized the U.S. Treasury to purchase $700 billion in “troubled assets” from financial institutions. When the housing bubble burst in 2007, some of Wall Street’s most prominent financial houses were left teetering on the edge of bankruptcy. While the free market and justice demanded the liquidation of these firms, Washington and Wall Street had other priorities, and they came up with TARP as a way to unload their losses onto the American people.

Barack Obama certainly inherited a mess in 2009, but his policies have mimicked those of his predecessor and have compounded the nation’s economic problems. Like Bush, Obama has spent recklessly, expanded entitlements, bailed out favored corporations, and carried out a bellicose, interventionist foreign policy that has spilled much innocent blood abroad.

The Federal Reserve has played its prescribed role as the “great enabler” of the federal government’s fiscal insanity by driving interest rates below sea level, thus propping up the bond market. The Fed is now the largest purchaser of Treasuries — buying more than 60 percent of Uncle Sam’s debt in 2012 with money it created out of thin air. That’s a sweet deal for the U.S. Treasury, but it’s a raw deal for savers, wage earners, and the vast majority of Americans, who occupy the lower end of the financial food chain.

Most alarming to those familiar with how the fractional-reserve banking system works is the spike in bank reserves and the tripling of the Fed’s balance sheet since 2008. The current situation is an inflationary powder keg, which is made more volatile by the rumors of yet another round “quantitative easing.”

Why is the Fed chairman Ben Bernanke so committed to inflation?

A partial explanation could be his misguided belief that Fed-induced deflation caused the Great Depression.

Bernanke wrote in 1995 that “monetary shocks played a major role in the Great Contraction, and that these shocks were transmitted around the world primarily through the workings of the gold standard.”

But the classical gold standard had been abandoned by the 1920s in favor of the gold-exchange standard. This system was, in fact, inflationary, and it set stage for the Roaring Twenties and the subsequent crash of ‘29. As for the deflation that supposedly vexed the country in the 1930s, it was not caused by deliberate Fed policy. Rather the deflation was primarily caused by a nationwide banking panic that forced the closure of over 9000 banks between 1930 and 1933.

Now, deflationary crises are painful, but they are self-correcting if prices and wages are allowed to adjust to the amount of money in circulation. But rather than let the market correct for imbalances created during the previous decade, the government clumsily interfered with the economy, which greatly increased the severity and duration of the panic.

What is disturbing is that the policy response to the current economic crisis has been similar to that of the Great Depression: more regulation, increased government spending and debt, and bewildering policy changes. Just as in the 1930s, government meddling today is creating what economic historian Robert Higgs calls “regime uncertainty.” This is a condition where businessmen and investors simply stop investing out of fear of what the government may do next. After all, how can one engage in long-term investment when tax laws and regulations are in constant flux?

Fiscal and monetary policies have siphoned resources away from the private sector and pumped them into the public and semi-public spheres where they have been squandered on a variety of boondoggles and corporate bailouts. That politicians would seek to feather their own nests and enrich a few crony capitalists at the expense of the taxpayers is hardly surprising. After all, politics is all about legalized plunder.

But these policies impose enormous opportunity costs. Scarce resources are being squandered that could otherwise be invested in businesses that might actually boost productivity and provide jobs for the legions of unemployed.

While the U.S. economy groans under an enormous debt burden, and inflation undermines savings — thus depriving the economy of the seed capital necessary for future growth — the country is also confronted with an unfunded-liabilities crisis, the magnitude of which is so large it is beyond the comprehension of most people. Professor Lawrence Kotlikoff of Boston University estimates this fiscal gap presented by Social Security, Medicare, and Medicaid benefits to be $222 trillion this year. To help put that number in perspective, the total financial assets of the world are valued at around $150 trillion.

There is simply no way the U.S. government can meet these obligations. Therefore, default is inevitable. The only question is how this default will be managed. Most likely, politicians will attempt a gradual or stealth default through a variety of cost-control measures and, of course, inflation. Medicare and Medicaid may still exist but only under an austere rationing system. Social Security checks may still go out, but they’ll be worth much less as the dollar’s purchasing power gets slashed to narrow the fiscal gap.

The U.S. government has created this crisis by promising more than it can deliver. That’s not surprising. Politicians get elected by making promises. But government doesn’t produce wealth, and therefore whatever it gives to one person it must first take from another.

Such redistributive policies hinder wealth creation, which inevitably results in lower revenues. This is why welfare states always collapse. As Margaret Thatcher said, “the problem with socialism is that you eventually run out of other people’s money.”

We have come to a fork in the road. There is no sustainable middle way that mixes the supposed compassion of socialism and the true dynamism of capitalism. The postwar paradigm of the mixed economy was an illusion, or rather a Ponzi scheme based on a demographic anomaly. There are now too few workers paying into the system to sustain it. The end is indeed near, and the choice before us will be free markets and liberty or collectivism and slavery.

Reading List

Prepared by Richard M. Ebeling

Austrian economics is a distinctive approach to the discipline of economics that analyzes market forces without ever losing sight of the logic of individual human action. Two of the major Austrian economists in the 20th century have been Friedrich A. Hayek, who won the Nobel Prize in Economics, and Ludwig von Mises. Posted below is an Austrian Economics reading list prepared by Richard M. Ebeling, economics professor at Northwood University in Midland and former president of the Foundation for Economic Education and vice president of academic affairs at FFF.